tag:blogger.com,1999:blog-5880610.post286887995611680167..comments2024-01-13T18:57:18.243-05:00Comments on Information Processing: Notional vs net: complexity is our enemySteve Hsuhttp://www.blogger.com/profile/02428333897272913660noreply@blogger.comBlogger19125tag:blogger.com,1999:blog-5880610.post-22999303820066500272009-03-10T17:55:00.000-04:002009-03-10T17:55:00.000-04:00I'm actually doing a senior research thesis on thi...I'm actually doing a senior research thesis on this right now. My research question is to study the practice that banks, hedge funds, and AIG used, with respect to the CDS market. Forget that everyone is calling for regulation, that is coming. I want to study internal and external controls, and what is being done to today to make this instrument a useful and effective risk mitigation tool.Toddhttps://www.blogger.com/profile/02434525765371021101noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-80220751315107928192008-11-07T22:40:00.000-05:002008-11-07T22:40:00.000-05:00im really glad I found a site where people are try...im really glad I found a site where people are trying to understand the mechanics of cds.Im not a quant and am not even good at math.Maybe someone here can help me with a spread sheet I am trying to work out, concerning the percentage of notional net after fees paid or received.My goal is to see if the notional net on a given entity makes a sudden percentage move higher or lower as preceived riskchrishttps://www.blogger.com/profile/10523266098116438907noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-72723700358998838032008-09-20T04:50:00.000-04:002008-09-20T04:50:00.000-04:00This little loop with major players invalidates an...This little loop with major players invalidates any Black-Scholes or Binomial pricing system they may have used for CDSs/CDOs. All such pricing formulas implicitly assume independence between transactional events for the underlying Gaussian statistics to be valid. A loop like this blows that out of the water. <BR/><BR/>It's literally like assuming you can calculate the temperature of a room Cassandrahttps://www.blogger.com/profile/05427951816856871412noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-86840018813760220502008-09-19T15:38:00.000-04:002008-09-19T15:38:00.000-04:00Steve,I've enjoyed reading your blog the last coup...Steve,<BR/><BR/>I've enjoyed reading your blog the last couple days. As to my question about whether now is a good time to head into finance, what you said about 50% of the Harvard graduating class heading into finance last year being a good signal for a market top makes a lot of sense. I guess PhD physicists who decide to leave academia will find other things to do... ;-)<BR/><BR/>STS,<BR/><BR/>brianhttps://www.blogger.com/profile/16949764057049234392noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-61515937115782691882008-09-19T14:54:00.000-04:002008-09-19T14:54:00.000-04:00Dave Bacon: "The people who ran the financial fir...<I>Dave Bacon: "The people who ran the financial firms chose to program their risk-management systems with overly optimistic assumptions and to feed them oversimplified data."</I><BR/><BR/>Sure. Because then you can <A HREF="http://www.financialsense.com/fsu/editorials/amerman/2008/0917.html" REL="nofollow">optimize your PERSONAL profits</A>:<BR/><BR/>"Your company makes assumptions about how Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-5880610.post-88274136889463044902008-09-18T23:36:00.000-04:002008-09-18T23:36:00.000-04:00Steve,"What I don't understand is why someone who ...Steve,<BR/><BR/>"What I don't understand is why someone who buys a CDS as insurance thinks their counterparty will actually be there if/when the sh*t really hits the fan!"<BR/><BR/>You're unsure of this because the interesting mathematical question is precisely the correlation among defaults. There's some kind of a phase transition (not sure how rigorously I mean to apply that term) as the Sethhttps://www.blogger.com/profile/16486234948199900568noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-24682514626415045402008-09-18T21:28:00.000-04:002008-09-18T21:28:00.000-04:00MFA - I think the math is pretty straightforward *...MFA - I think the math is pretty straightforward *if* you have access to the whole network of contracts. Unfortunately we don't! The Fed would give a lot for a map like the one above -- it would make cleaning up the mess much easier.<BR/><BR/>What I don't understand is why someone who buys a CDS as insurance thinks their counterparty will actually be there if/when the sh*t really hits the fan!Steve Hsuhttps://www.blogger.com/profile/02428333897272913660noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-8123294504904925362008-09-18T21:00:00.000-04:002008-09-18T21:00:00.000-04:00Of course section 407 is nice too.Of course section 407 is nice too.Sethhttps://www.blogger.com/profile/16486234948199900568noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-90147058753863782622008-09-18T20:52:00.000-04:002008-09-18T20:52:00.000-04:00I think Greenberger was referring to the Commodity...I think Greenberger was referring to the Commodity Futures Modernization Act (<A HREF="http://en.wikipedia.org/wiki/Commodity_Futures_Modernization_Act_of_2000" REL="nofollow">CFMA</A>) of 2000. Specifically Section 103 on pages 35-36 of this <A HREF="http://frwebgate.access.gpo.gov/cgi-bin/getdoc.cgi?dbname=106_cong_bills&docid=f:h5660ih.txt.pdf" REL="nofollow">version</A>.Sethhttps://www.blogger.com/profile/16486234948199900568noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-45442452857899199502008-09-18T20:45:00.000-04:002008-09-18T20:45:00.000-04:00http://bits.blogs.nytimes.com/2008/09/18/how-wall-...http://bits.blogs.nytimes.com/2008/09/18/how-wall-streets-quants-lied-to-their-computers/<BR/><BR/>"In fact, most Wall Street computer models radically underestimated the risk of the complex mortgage securities, they said. That is partly because the level of financial distress is “the equivalent of the 100-year flood,” in the words of Leslie Rahl, the president of Capital Market Risk Advisors, a Dave Baconhttps://www.blogger.com/profile/03506030153326411733noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-67752498270637496892008-09-18T20:38:00.000-04:002008-09-18T20:38:00.000-04:00No worries -- he was better this time!I (may have)...No worries -- he was better this time!<BR/><BR/>I (may have) actually learned something! Greenberger claims that by statute (due to some deregulation passed by Congress -- maybe even by McCain's advisor Phil Gramm!) regulators were not allowed to intervene in CDS markets. <BR/><BR/>Apparently MotherJones is all over this story:<BR/>http://www.motherjones.com/news/feature/2008/07/Steve Hsuhttps://www.blogger.com/profile/02428333897272913660noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-5789990551534644492008-09-18T20:35:00.000-04:002008-09-18T20:35:00.000-04:00This was very illuminating to me, Steve. Thanks!It...This was very illuminating to me, Steve. Thanks!<BR/><BR/>It seems to me that another job of regulators for the future is to constantly look for the weak links in such networks,i.e., ones whose failure can cause a lot of damage. It should be a very challenging mathematical problem to find good upper bounds on magnitude of potential losses, involving powerful ideas in graph theory, statistical Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-5880610.post-73025612223646798652008-09-18T20:07:00.000-04:002008-09-18T20:07:00.000-04:00I guess I stepped in it with the Greenberger link ...I guess I stepped in it with the Greenberger link ;) Sure, he's a lawyer and a regulator, not a quant. But he's talking to a pretty broad audience and expressing an understandable Cassandra complex: he feels he recommended regulatory changes that would have made a difference and was ignored out of complacency (at best) or conflicts of interest.Sethhttps://www.blogger.com/profile/16486234948199900568noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-22297397906729696782008-09-18T18:36:00.000-04:002008-09-18T18:36:00.000-04:00Oh no! It's that Greenberger guy again...Let's hop...Oh no! It's that Greenberger guy again...<BR/><BR/>Let's hope he's read up on the subject since his last interview. Maybe Terri will understand more this time than before...<BR/><BR/>http://infoproc.blogspot.com/2008/04/credit-crisis-for-pedestrians.htmlSteve Hsuhttps://www.blogger.com/profile/02428333897272913660noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-10577856035415048342008-09-18T18:30:00.000-04:002008-09-18T18:30:00.000-04:00STS, thanks for the link.I think my post was total...STS, thanks for the link.<BR/><BR/>I think my post was totally obvious to about half of the readership, but the point was still worth making.<BR/><BR/>I think a central exchange and stronger regulation would solve the systemic issues caused by complexity. A prudent regulator would have imposed this a few years ago! (People were keeping track of trades on slips of paper for a long time! I think I Steve Hsuhttps://www.blogger.com/profile/02428333897272913660noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-72948524718861047872008-09-18T17:28:00.000-04:002008-09-18T17:28:00.000-04:00Actually, that was the wrong link. Here's the int...Actually, that was the wrong link. Here's the <A HREF="http://www.npr.org/templates/story/story.php?storyId=94686428" REL="nofollow">interview</A> I had in mind. A couple of times I wanted to shout "those are NOTIONAL amounts!", but on the whole he had great insights to offer.Sethhttps://www.blogger.com/profile/16486234948199900568noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-54651201251454287142008-09-18T17:25:00.000-04:002008-09-18T17:25:00.000-04:00Steve,Exactly the right question. And I think the...Steve,<BR/><BR/>Exactly the right question. And I think the answer in simplest terms is "build an exchange". These transactions should go through a clearinghouse with margin requirements, etc. Also major CDS writers are effectively insurance companies and the math for doing insurance conservatively -- all talk of <A>Archimedean copulas</A> to one side -- isn't really new. But it requires Sethhttps://www.blogger.com/profile/16486234948199900568noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-2659759558992271712008-09-18T16:31:00.000-04:002008-09-18T16:31:00.000-04:00A sea change is coming: more regulation, higher ri...A sea change is coming: more regulation, higher risk aversion, more aversion to math.<BR/><BR/>On CNBC you can already hear non-mathematical industry types trying to blame it all on models.<BR/><BR/>Nevertheless the long term trend is still to greater securitization and more complex derivatives -- i.e., more quants! But hopefully people will be much more skeptical of models and their assumptions.Steve Hsuhttps://www.blogger.com/profile/02428333897272913660noreply@blogger.comtag:blogger.com,1999:blog-5880610.post-73277594478674470782008-09-18T15:52:00.000-04:002008-09-18T15:52:00.000-04:00As I drove into work this morning, listening to a ...As I drove into work this morning, listening to a story on NPR about how much of a problem credit default swaps caused for AIG, I found myself wondering what you would think of all of this, Steve. It had been a while since I had read your blog. I'm glad you see you're still very much interested. It's way more than I can take in on my lunch break. ;-)<BR/><BR/>It's interesting to me that a brianhttps://www.blogger.com/profile/16949764057049234392noreply@blogger.com